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Building home equity

This image is photograph of a woman holding a “sold” sign.
Many people choose to purchase their home rather than rent. This chapter explores how the global financial crisis has influenced home ownership. (Credit: modification of work by Diana Parkhouse/Flickr Creative Commones)

The housing bubble and the financial crisis of 2007

In 2006, housing equity in the United States peaked at $13 trillion. That means that the market prices of homes, less what was still owed on the loans used to buy these houses, equaled $13 trillion. This was a very good number, since the equity represented the value of the financial asset most U.S. citizens owned.

However, by 2008 this number had gone down to $8.8 trillion, and it declined further still in 2009. Combined with the decline in value of other financial assets held by U.S. citizens, by 2010, U.S. homeowners’ wealth had declined by $14 trillion! This is a staggering result, and it affected millions of lives: people had to alter their retirement decisions, housing decisions, and other important consumption decisions. Just about every other large economy in the world suffered a decline in the market value of financial assets, as a result of the global financial crisis of 2008–2009.

This chapter will explain why people buy houses (other than as a place to live), why they buy other types of financial assets, and why businesses sell those financial assets in the first place. The chapter will also give us insight into why financial markets and assets go through boom and bust cycles like the one described here.

Introduction to financial markets

In this chapter, you will learn about:

  • How Businesses Raise Financial Capital
  • How Households Supply Financial Capital
  • How to Accumulate Personal Wealth

When a firm needs to buy new equipment or build a new facility, it often must go to the financial market to raise funds. Usually firms will add capacity during an economic expansion when profits are on the rise and consumer demand is high. Business investment is one of the critical ingredients needed to sustain economic growth. Even in the sluggish economy of 2009, U.S. firms invested $1.4 trillion in new equipment and structures, in the hope that these investments would generate profits in the years ahead.

Between the end of the recession in 2009 through the second quarter 2013, profits for the S&P 500 companies grew to 9.7 % despite the weak economy, with much of that amount driven by cost cutting and reductions in input costs, according to the Wall Street Journal . [link] shows corporate profits after taxes (adjusted for inventory and capital consumption). Despite the steep decline in quarterly net profit in 2008, profits have recovered and surpassed pre-Recession levels.

Corporate profits after tax (adjusted for inventory and capital consumption)

Corporate profits after tax were around $500 billion in 2000 and climbed as high as $1,400 billion around 2007 before plummeting down around $600 billion in 2009. 2013 reports showed corporate profits after tax were around $1,800 billion.
Until 2008, corporate profits after tax have generally continued to increase each year. There was a significant drop in profits during 2008 and into 2009. The profit trend has since continued to increase each year, though at a less steady or consistent rate. (Source: Federal Reserve Economic Data (FRED) https://research.stlouisfed.org/fred2/series/CPATAX)

Many firms, from huge companies like General Motors to startup firms writing computer software, do not have the financial resources within the firm to make all the desired investments. These firms need financial capital from outside investors, and they are willing to pay interest for the opportunity to get a rate of return on the investment for that financial capital.

On the other side of the financial capital market, suppliers of financial capital, like households, wish to use their savings in a way that will provide a return. Individuals cannot, however, take the few thousand dollars that they save in any given year, write a letter to General Motors or some other firm, and negotiate to invest their money with that firm. Financial capital markets bridge this gap: that is, they find ways to take the inflow of funds from many separate suppliers of financial capital and transform it into the funds desired by demanders of financial capital. Such financial markets include stocks, bonds, bank loans, and other financial investments.

Visit this website to read more about financial markets.

Our perspective then shifts to consider how these financial investments appear to suppliers of capital such as the households that are saving funds. Households have a range of investment options: bank accounts, certificates of deposit, money market mutual funds, bonds, stocks, stock and bond mutual funds, housing, and even tangible assets like gold. Finally, the chapter investigates two methods for becoming rich: a quick and easy method that does not work very well at all, and a slow, reliable method that can work very well indeed over a lifetime.

Questions & Answers

in 2021 Amazon reduced the annual subscription fee for its prime membership service which provides free two_day shipping on many goods and other benefits, from $119 to $99. Zoppa consulting, an investment firm estimated that before the price reduction, prime had 62million subscribers globally. If so, what is the arc elasticity of demand for a prime membership.
Joan Reply
Differences between microeconomics and macroeconomics
tatiana Reply
what is Economics
Ebem Reply
the branch of knowledge concerned with the production, consumption, and transfer of wealth and has Influence by sociology!!!!
Ajay
Economics is the study of how humans make decisions when they want to fulfil their requirements and desires for goods, services and resources.
Abdullah
Economics is the study how humans make decisions in the faces of scarcity.
Rose
economic is the study of how human make decision in the fact of scarcity.
Toang
Economics is a social science which study human behavior as a relationship between earn and scarce mean which have alternative uses
Juliet
what is market structure
Fatima
market structure in economics depicts how firms are differentiated and categorised based on types of goods they sell and how their operations are affected by external factors and elements.
Nasir
what is economic theory
Madara
what is demand
Gooluck Reply
demand is the willingness to purchase something
Mohamed
demand is the potential ability or williness to purchases something at a particular price at a given period of time..
Ahmed
Demand refers to as quantities of a goods and services in which consumers are willing and able to purchase at a given period of time. Demand can also be defined as the desire backed by ability to purchase .
Fadiga
what is demand
John Reply
is the production of goods in scarcity
David
thanks
John
Demand refers to as quantities of a goods and services in which consumers are willing and able to purchase at a given period of time.
Fadiga
what is demand of supply
music Reply
What is the meaning of supply of labour
Anthonia Reply
what is production?
Elizabeth Reply
Production is basically the creation of goods and services to satisfy human wants
Anthonia
under what condition will demand curve slope upward from left to right instead of normally sloping downward from left to right
Atama Reply
how i can calculate elasticity?
Tewekel Reply
What is real wages
Emmanuella Reply
what are the concept of cost
Tabitha Reply
what is the difference between want and choice
Grace Reply
Want is a desire to have something while choice is the ability to select or choose a perticular good or services you desire to have at a perticular point in time.
Dalton
substitutes and complements
Amman Reply
Substitute are goods that can replace another good but complements goods that can be combined together
nkanyiso
account for persistent increase in lnflation
niwahereza Reply

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Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
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